Cosy' auditing under fire

THE CAMPAIGN to crack down on what many shareholders see as an over-cosy relationship between company directors and their auditors is gathering pace, with several institutional investors publicly voicing concerns.

Cleveland County Council's pounds 550m superannunation funds and the pension funds of National Westminster Bank are set to oppose the re-appointment of auditors at companies where a director was previously employed at the auditors. Last week Pensions Investment Research Consulting (Pirc), which advises funds controlling a total of pounds 40bn, recommended clients to vote against the reappointment of Touche Ross as auditors to General Electric Company at next month's annual meeting. GEC's finance director, David Newlands, is a former Touche Ross partner.

GEC declined to comment but Alan McDougall, a director of Pirc, said: 'Shareholders cannot have confidence in a company's audit if the auditor is seen to have connections on the company board. Auditors are responsible to a company's shareholders. Our view is that connections like this compromise independence. From a shareholder's point of view no hassle is too much to ensure auditor independence, so the extra costs associated with a change of auditor can be justified. We will be making this a feature of our voting guidelines.'

Other FTSE-100 finance directors who have been partners or employees of their company's auditing firm include Graham Corbett of Eurotunnel, Kathleen O'Donovan of BTR, John Warren of United Biscuits, Ray Mackie of Hillsdown Holdings and Ronald Henderson of BICC. Stephen Hall, finance director at Lloyd's of London, was until recently a partner with Ernst & Young, the society's auditor.

Mr Hall said: 'If you ask my colleagues at Lloyd's if I have been soft on Ernst & Young, they will say I have not. Nor have Ernst & Young taken any advantage of my previous relationship with them. The Corporation's accounts are relatively straightforward. It is hard to have a row about them.'

Fred Green, investment manager of the Cleveland funds, said 'We think it is essential that auditors should bring an independent view to the audit. We believe that auditing an ex-colleague's company is contrary to the spirit of the Cadbury Code on corporate governance. There should be no doubt hanging over the professional judgement of the auditor: this cannot be the case if the finance director is out of the same stable as the auditor.'

Peter Gale, the investment manager of NatWest's pension funds, said: 'We are going to get more active. We have put together a set of voting policies, and finance directors' previous involvement with their auditors is just the sort of issue we will be voting on.'

The institutes of chartered accountants in England, Wales, Scotland and Ireland recognised the dangers earlier this month by issuing proposals for new guidance on the issue. The proposed guidance says: 'The objectivity of an (accountancy) practice reporting on a company may be threatened, or appear to be threatened, if an officer of the audit client has been in the recent past a partner or senior employee of the practice.'

So as soon as an employee or partner indicates the possibility of joining a client company, that person must be immediately removed from the audit and must derive no further financial benefit from it.

Jack Maurice, of the accountants' joint ethics committee, said: 'We were invited to consider a quarantine period of two years, because the American Institute of CPAs has recommended that to the US Securities and Exchange Commission. But the joint ethics committee came to the conclusion that it was not our place to encourage legislation for non- members.

'The Newlands case sounds like ancient history, as he has been out of Touche for five years. After that period there is highly unlikely to be a conflict of interest, unless there was evidence of an on-going relationship. There must be thousands of such instances up and down the country.'